Mentioned in the CentOS-Announce mailing list on the 17th of June this year:

CentOS 3.5 is now the default version of CentOS 3.x for all
architectures.

Once all mirrors have synced users running yum update will automatically
be updated to version 3.5.

Click to expand...

I take this as meaning that all mirrors should have 3.5 in place as default, so even if you have your mirrors set in yum.conf along the lines of http://mirror.centos.org/centos/$releasever/os/$basearch/, you should still get 3.5.

Its possible that this change hasn't fully occurred on the mirrors you are using. I'm using the same mirror, however to prompt the upgrade prior to when the auto-upgrades begin, I changed all occurrences of $releasever to 3.5, changing back to $releasever a couple of days after the upgrade.

Actually, it turned out to be an error earlier in the /scripts/upcp process, that I missed, that was causing the problem...

Error: Unsigned Package /var/cache/yum/update/packages/telnet-0.17-26.EL3.3.i386.rpm
Error: You may want to run yum clean or remove the file:
/var/cache/yum/update/packages/telnet-0.17-26.EL3.3.i386.rpm